Score one for private companies, hedge funds, venture capitalists and private equity firms.
Score one for private companies, hedge funds, venture capitalists and private equity firms.
For about 80 years, their efforts to raise capital by selling stocks, bonds or other securities were generally prohibited from widely soliciting investors or advertising their offerings.
Thanks to a rule approved July 10, capital-raising companies may now sponsor public seminars, set up password-free websites, do mass mailings, buy billboard space, and run newspaper, magazine, TV and radio advertisements to market their offerings.
The action by the Securities and Exchange Commission was part of the 2012 Jumpstart Our Business Startups Act, or JOBS Act, which Congress passed to make it easier for companies to find investors, raise money and create jobs.
Even under existing rules, private placements, which are limited sales of securities by both closely held and public companies, are "an unheralded but extremely large source of capital for growing companies," law firm Faegre Baker Daniels said in a recent report. "Four times as much capital was raised in private placements … as was raised in initial public offerings in 2012."
And now, under the new SEC rules, "smaller companies and entrepreneurs who have not been able to build relationships with angel investors and venture capital firms will benefit from the lifting of the general solicitation ban," law firm Husch Blackwell said in an analysis.
Private companies, however, seem divided on whether they'll choose to raise their profiles or continue to do business the old-fashioned way.
A recent poll by peHUB, a blog about the private-equity industry, found that 18 of 35 firms that responded said the SEC's action wouldn't alter their plans, while nine companies said they'd consider general solicitation and advertising under the more liberal rules. The rest were unsure. A similar poll by peHUB sister site HedgeWorld found that 41 percent of hedge funds planned to advertise or solicit.
"I suspect that large private equity or venture funds will not use much general advertising in their future fundraising, while some smaller funds may use it to expand their investor base," said Bob Murphy, a Dykema securities lawyer who once worked for the SEC. Some wonder whether investment funds will forgo advertising to keep their exclusive reputations.
Businesses may cast a wider net when seeking investors under the changed rules, although only wealthy, or accredited, investors may buy the securities. Still, consumer advocates remain concerned about protections for the public as private placements go more mainstream.
Some Chicago-area fundraisers favor the greater flexibility and are at least considering getting the word out more broadly to investors.
"This is as dramatic of a change in the venture capital industry that we've seen since in the late 1970s, when institutional investors began being permitted to invest pension fund dollars" in the asset class, said Len Batterson, chief executive of Chicago-based Batterson Venture Capital, which invests money on behalf of about 100 accredited investors. Batterson's advisory board includes AOL co-founder James Kimsey, Katten Muchin Rosenman LLP founding partner Melvin Katten, and William Becker, former general counsel for Oprah Winfrey's Harpo Inc.
The lifting of the ban on solicitation and advertising comes just as Batterson, who was an early investor in AOL and calls its former CEO Steve Case a "good friend," last month established Chicago-based Accredited Venture Capital, which will be an online platform for accredited investors for deals ranging from $375,000 to $5 million.
Other online portals already exist for wealthy people who want to buy equity stakes in businesses, but Accredited points out that millions nationwide who would qualify as accredited investors currently aren't dabbling in venture capital.
Indeed, the SEC estimates that at least 8.7 million U.S. households, or 7.4 percent of U.S. households, qualified as accredited investors in 2010. Fewer than 234,000 investors participate in private securities sales, it said.
"We're trying to launch in beta after Labor Day," Batterson said of the Accredited portal. Once the advertising prohibition is lifted, "we'll start both a major online and offline campaign" to get the word out about the service.
"Now we can advertise," Batterson said. "I'm not sure about a billboard on Michigan Avenue - maybe."
Also eager to test the waters under the looser restrictions is Chicago-based Fundology, an online company that seeks to give novice accredited investors a simpler way to network and consider potential deals.
Fundology also has an online newsletter, Movers, Shakers & Dealmakers, which features interviews with CEOs of up-and-coming companies and promotes investment conferences. It has a circulation of about 30,000.
"With the SEC's approval, we are cleared to advertise investment deals from our platform to the newsletter," said President Kison Patel. "This gives deals vital exposure and our subscribers a better idea of the types of deals circulating on our platform."
Marketing firms and financial public relations professionals are also beginning to talk to hedge funds and others about promoting themselves to potential investors. New York-based MaciasPR just published a 14-page guide on how funds should market themselves under the new SEC rules; it says fewer than 1 in 20 hedge funds, for example, have a website.
"I was in a meeting with a hedge fund attorney this morning discussing how we would approach this very issue," said Bess Gallanis, a Chicago-area media relations consultant specializing in the financial services industry.
"It's a very competitive environment right now for hedge funds to raise money," she said. "The ruling will open the door for hedge funds to talk about investment strategies and products to the financial media, through social media, through white papers and more informative websites."
Mutual funds should take notice, "as the new rules will increase competition with private funds that will be better positioned to target investors," according to an analysis by law firm Brownstein Hyatt Farber Schreck.
Long before the regulation was changed, Capitalistpig Hedge Fund LLC had run ads in such publications as Crain's and The Objective Standard.
"My intention was the same as any other business: to generate interest in my product and engage in voluntary, mutually beneficial trade," said Jonathan Hoenig, managing member of the Chicago-based company. "It's ludicrous that the government has made exercising the First Amendment right to free speech a crime for over 80 years."
He said he hasn't gotten into trouble with the SEC.
"There's a tremendous unease in fearing you'll be hunted down by government henchmen simply for running an advertisement," he said. Yet that regulatory environment has existed for years, "directed not at criminals, but honest, profit-seeking hedge funds just trying to create wealth for themselves and their customers."
He said his fund has generated a total return of 401 percent since 2000. It has just developed a new ad in which it describes itself as "an actively managed hedge fund that's beaten market returns for over 13 years." The ad, which features the Chicago skyline, also notes that it's for "accredited investors only."
"It will run online, as well as in The Objective Standard and a few other niche print publications, which I've found to be most cost-effective rather than large-size media buys in mainstream publications," Hoenig said.
Consumer advocates worry that the changes don't include any meaningful protections for investors.
"With this vote, the commission has thrown open the doors to mass marketing of hedge funds and other so-called private offerings, knowing full well that it lacks the tools to provide effective oversight," Barbara Roper, Consumer Federation of America director of investor protection, said in a statement.
Not all businesses will rush into soliciting or advertising for investors.
Consumer packaged goods developer Dude Products, based in the Wicker Park neighborhood, is raising financing through angels and accredited investors through more traditional networking, said Sean Riley, "chief executive dude." He previously worked for a construction technology company.
The developer of Dude Wipes, which are like baby wipes but marketed to men, is about a third of the way to his goal of raising $600,000. It had been self-financed until recently, and Riley hopes to use the proceeds to get into stores and to buy equipment. The Dude Wipes are made at a Wisconsin manufacturer's plant in Mexico and warehoused in Bensenville. Dude Products has two full-time and two part-time employees.
"The change is potentially great for small businesses but also could create fraudulent opportunities," Riley said of the SEC lifting the ban. "It will be interesting to see how they vet whether investors are accredited."
He also said that advertising, even for seeking investors, is a secondary priority right now.
"If you don't have a good idea and team, it doesn't matter if you advertise" for investors, Riley said. "It's not going to be that magic bean that creates millions of dollars" in backing if the underlying idea isn't sound.
His sentiments were echoed by Jockbrokers. In May, the Carbondale-based company won $10,000 at a Dun & Bradstreet small-business competition at Navy Pier. Jockbrokers is like a stock market where you can buy and sell shares in professional athletes.
"If you can imagine putting eBay, Scottrade, and ESPN's fantasy sports section all into one site, that is what we have done," Jockbrokers CEO Justin Baggott said.
Baggott said Jockbrokers would be unlikely to generally solicit or advertise to find investors when services such as AngelList and Gust.com are available for his business, which he launched in March.
He signed up for AngelList, a platform for small businesses hoping to meet accredited investors, but didn't even complete his profile, partly because so many potential investors want Jockbrokers to move its headquarters from Carbondale, where he is committed to staying, to such places as Cleveland, Chicago and the West Coast.
Jockbrokers has seven investors that it attracted through word of mouth, Facebook, Gust.com and a local small-business development center, Baggott said.
Three days ago, he signed a marketing partnership in which the firm will pay 100 percent of marketing costs in return for a percentage of the revenue.
"The point is that there is money out there, even for people like me who grew up poor and had zero connections," Baggott said. "For us to demand to stay in southern Illinois and still have investors coming out of our ears proves that the money is out there."
The amendments to the SEC rules, which were passed in a 4-1 vote, become effective 60 days after they're published in the Federal Register. They're expected to be effective in September.
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Private businesses, hedge funds, and private equity and venture capital firms will soon be allowed to advertise in publications or on the Internet in an effort to attract investors. They may solicit or advertise to anyone but may sell their securities only to wealthy, or accredited, investors.
Currently, private fund managers typically rely more on investors' own representations to determine whether they're accredited.
But under the new rules, issuers that want to advertise or otherwise more generally promote their securities sales must be more proactive and take "reasonable steps" to verify that the investors buying them are "accredited."
That means he or she has either:
-Individual net worth, or joint net worth with a spouse, that exceeds $1 million, excluding the value of a primary home.
-Or individual annual income that exceeds $200,000 in each of the two most recent years, or joint annual income with a spouse exceeding $300,000 for those years, plus a "reasonable expectation" of the same income in the current year.
The methods that issuers may use to verify that a person is an accredited investor include:
-Checking the investor's tax forms and getting a written statement that the investor will likely earn the necessary income in the current year.
-Getting written confirmation from a registered broker-dealer or investment adviser, or licensed lawyer or certified public accountant, that he or she has "taken reasonable steps" to verify the investor's accredited status.
Some wonder whether high-income investors will be turned off by the more stringent verification standards.
The Consumer Federation of America maintains that the added requirement of the issuer to verify the status of accredited investors is "completely inadequate."
For one thing, the consumer federation believes that the accredited threshold is too low
"No one honestly believes that having an income of $200,000 ensures that someone is automatically financially sophisticated enough to understand the risks in these offerings or wealthy enough to withstand the potential losses," Barbara Roper, the consumer federation's director of investor protection, said in a statement. "Even the $1 million net worth standard fails to provide that assurance, if the money is a retirement savings nest egg that must be carefully conserved to provide income over decades."
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